When Controllers Fear a Loss of Control

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Controllers had their day at the annual Financial Executives International conference on financial reporting. And a panel of executives echoed concerns about that key finance position that were both global and domestic.

Topping the list of items tackled by the four-person panel, moderated by Eaton Corp. controller Billie Rawot, was the recruiting and retaining of talent. But following close behind were worries about the growing complexity of accounting; the role of outsourcing; globalization and the effects of the new International Financial Reporting Standards (IFRS); providing quarterly earnings guidance to analysts; and complying with the newly minted Auditing Standard No. 5 issued in July by the Public Company Accounting Oversight Board.

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Joining Eaton’s Rawot on the panel were Sallie Bailey, chief financial officer of Ferro Corp., and controllers James Barge of Time Warner and Thomas Tefft of Medtronic. While all are global companies, each represented a different type and size of operation, ranging from Ferro’s $2 billion in annual revenues, to Medtronic’s $13 billion and Time Warner’s $46 billion.

The panel gave a repeat performance later in the day, giving participants a chance to expound on their concerns and answer questions.

The talent issue — with a focus on how to train and retain top controllers — was first on the controllers’ agenda. Time Warner’s Barge urged companies to “pay a premium for your talent; it’s worth it,” noting that regardless of a company’s size, managers all must battle the human resources department to increase salaries. “HR wants to give everybody a three percent increase,” he quipped. Adding perspective, Barge explained that auditors, who work closely with finance staffs, receive raises of between eight and 10 percent, plus bonuses and retention rewards. That disparity could eventually cause a retention problem, according to Barge.

Regarding the complexity of accounting standards, Barge conceded that “everyone winds up chasing our tails no matter how many resources we have.” He said that the pace of change compounds the complications of the rules by adding a critical time element to the mix. And he pointed to the recent rise in the number of restatements over the past few years, arguing that two culprits behind that trend have been the increase in accounting complexity and the heightened level of regulation. “Ten to 15 years ago, when I was with the [Securities and Exchange Commission], there was a more reasonable approach” taken with regard to forcing restatements that have no material affect on a company, he said.

Although Time Warner’s American operations are not preparing to move to IFRS, Barge was glad to see the SEC’s two proposals: a proposed rule on allowing global companies to file results using IFRS, instead of reconciling with U.S. generally accepted accounting principles, and a concept release on allowing U.S. companies to do the same. Barge “sees the advantage,” but thinks the reaction of the market will determine whether changing standards is a good idea. If the markets react negatively to the removal of reconciliation or switching from GAAP to IFRS, that will be the real test. “But I don’t think the markets will penalize companies.”

Tefft of Medtronic said his major concern about moving to IFRS is that it could turn into a second Sarbanes-Oxley Section 404, referring to the complications of the Sarbox’s internal controls provision. He worried that smaller companies may not have the resources to deal with the change in a cost effective manner. Indeed, Tefft pointed out that IFRS implementation will be a burden even to an experienced staff, and require a new level of training.

For her part, Bailey said that smaller companies could possibly be able to kill two birds with one stone by implementing IFRS — if the joint project between the Financial Accounting Standards Board and International Accounting Standards Board to converge the two set of standards is successful. Through that convergence, said Bailey, “we would be able to streamline processes … But if we are just adding another accounting standard, then it becomes increasingly onerous.”

There are two camps regarding outsourcing and shared services, mused Barge: Those that do it, and those that will do it. He joked that if someone shows up at the doorstep saying he wants to benchmark your financial operations, “you’ve had a bad day.” Barge pointed out the inevitable: That if controls and the transition are handled properly, the cost savings of shared services and outsourcing are compelling. He further touted the advantages of the documentation process that precedes such a move. The staff that is expected to take over the financial operations will document procedures “like never before,” claimed Barge. “Forget about Sarbox” and its requirements to document procedures.

Maybe more important, outsourcing financial operations give the CFO instant credibility with other departments that are being asked to make the same kind of transition, Barge said.

The panel also discussed the question of whether to issue earnings guidance, although each company had its own take on the issue. Medtronic, for instance, stopped providing quarterly guidance two years ago, and halted its annual guidance this year. Meanwhile, following trends in their respective industries, Time Warner provides annual guidance alone, while Ferro supplies only quarterly guidance.

Medtronic weaned itself off guidance because the medical device maker didn’t think that predicting results in a volatile market — and suffering the consequences of being wrong — was productive. “But old habits are hard to break,” noted Tefft, who said that while the investment community understood the company’s rationale, executives internally continue to refer to guidance projections as part of performance measures.

Two years after exorcizing guidance, Medtronic management is now fully focused on driving long-term progress, such as annual goals, added Tefft. “It was very positive to take something else off the table,” he commented, referring to “the obsessive focus on earnings.” Medtronic still has quarterly and annual goals, but those goals are no longer linked to analysts, added the controller.

The guidance issue is different for Ferro, said Bailey, because the company has to attract both sell-side and buy-side analysts. “We have to think about the benefits we receive by providing estimates,” said the CFO.

Changing subjects, Bailey said she was “pleased” about the new auditing standard known as AS5, mainly because it dropped the number of internal controls an auditor must test from about 600 to 150. She admits that there is more potential risk in focusing on a smaller group of controls, but she doesn’t mind the extra scrutiny. The “big problem” with AS5 for smaller companies is that often it is unclear whether the staff has provided enough documentation to enable the auditor to sign off on the results, adds Bailey.